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European payment issues will top 2008 agenda
Opinion: Sepa will usher in radical change

By Gareth Lodge

Published: Thursday 20 December 2007

Complex and far-reaching compliance regulations around the world are putting payment operations under intense scrutiny. But Gareth Lodge argues that it is the changes in Europe that are having by far the greatest impact.

The drive to achieve the goal of the Lisbon Agenda, the achievement of an open and competitive marketplace for financial services, has resulted in 117 separate measures.

Payments, and specifically the Single European Payments Area (Sepa), underpin this vision as they provide the framework for the changes to take place. The market is already complex and will become increasingly more so, with real uncertainty over how the landscape will change and over what timeframe.

I believe that the following business issues affecting the European payments market in 2008 require the greatest attention from banks:

Cheat Sheets

♦ Basel II
♦ MiFID
♦ Sarbanes-Oxley

The drive in Sepa for open competition and the removal of border barriers will change the European banking landscape forever. For example, it will force consolidation in payment infrastructures and this is changing the traditional business model. The regulators have suggested that in an efficient market there should not be the current 50 or 60 processors but only five to seven, and that any bank can use any processor. As a result, consolidation is already happening with the creation of Equens, the merger of Dutch, German and Italian processors.

This poses some significant challenges to banks, both strategic and technological. Which processor do they back? Their existing one, which may not be the cheapest but is the one they control. Or do they figure out the challenge of decoupling and moving to a new provider that may be able to serve them better and protect them from further changes? So one consequence is that revenues will fall and in some cases costs as well, and banks need to address how they manage this.

European processors have come to the conclusion that margins are going to deteriorate. A viable business will require the addition of perceived value for the customers or a significant increase in scale. As a result there has not been so much an expansion of services they provide but an explosion, as each seeks to safeguard their future.

European banks may take advantage of this explosion and follow the US model where the trend is for mid-tier banks to outsource at least some aspects of their payments processing. Alternatively, they may undertake major technology refreshes in their payments operations to tackle the cost and complexity of regulation-driven changes.

Accelerated by the ISO 20022 standards mandated for Sepa, XML is standardising information exchange from corporate initiation to clearing and settlement; and business process management (BPM) technology is underpinning many back-office modernisation programmes.

As a result, service-oriented architecture (SOA) technology is taking over from monolithic legacy systems that have been a burden on the industry and inhibited a bank's ability to change.

The most common complaint from retail and commercial customers is that payments lack transparency and take too long to process. This plays as a competitive factor as corporations seek to reduce the number of banking relationships.

From the retail side, this negative customer perception is pushing customers away from the traditional financial services providers towards non-traditional providers that are rapidly improving market share. Non-traditional payments providers see payments as a method of adding value to their core products and in many cases include services free of charge, making it very difficult for traditional operators to compete. The introduction of the Payment Services Directive will encourage this further, and many banks will face uncertain futures in their payments business.

For many banks, all they see is the doom and gloom of enforced spending with no obvious business case. However, others perceive Sepa as an opportunity for a step change in how they run their payment operations. This is a real upside for the vendor industry - not only is the mandated change, but some banks are using this almost as an excuse to re-engineer.

There will be winners and losers among the banks but there will be some big winners - and losers - in the vendor community. Successful vendors will be those that understand their clients' payment strategies and have solutions to support this payments transformation.

Gareth Lodge is a research analyst at financial services specialist TowerGroup